Policymakers Weighing Tax Changes Would Benefit From Dynamic Analysis

"Dynamic scoring of tax rate changes should be utilized in budgetary projections for the State of Arkansas. It is irresponsible to ignore the behavioral impacts of tax rate changes on consumers and suppliers of labor and capital." (Murphy Commission, Policy Foundation, 1998)

(October 12, 2009) State revenues from a 2008 severance tax hike are short of the official estimate due to deflation in the natural gas market. But a 30 percent cut in the state capital gains tax in 1999¹ led to revenues greater than the estimate due to increased economic activity.

Both episodes—a decade apart—underscore that policymakers weighing tax proposals would benefit from dynamic analysis, an attempt to measure the full effect of fiscal policy on revenue estimates.

A formula² in a recent Bureau of Legislative Research dynamic analysis³ produces the following range of FY 2010 revenue estimates for the 2008 severance tax hike. The range provides policymakers with more information than the official $8 per cubic foot state estimate.

Conclusion

Economists do not possess the proverbial crystal ball that allows them to consistently forecast revenues in a complex economy marked by changing economic variables. But they can create a range of revenue estimates—using dynamic analysis—for policymakers weighing a severance tax increase, capital gains tax cut or other tax proposal.

-- Greg Kaza

¹ PA 1005 of 1999. Sponsor: State Sen. Jim Hill, D-Nashville.

² Market price divided by $8.00 multiplied by FY 2010 revenue estimate ($73.6 million)

³ "Dynamic Analysis Of State Severance Tax Hike," Policy Foundation memo (September 2009)